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PhD Candidate in Economics University College London

We quantify behavioral responses to estate taxation by exploiting two large reforms in Taiwan. Using comprehensive administrative data and a difference-in-difference design, we show that the response of reported estates to the reforms is quick, persistent, and exhibits an asymmetry. We estimate elasticities of reported estates with respect tothe net-of-tax rate of 2.76 (s.e. 0.39) for the tax increase and 1.31 (s.e. 0.16) for thetax cut. The asymmetry arises because liquid items such as financial assets, deposit savings, and charitable exemptions respond significantly more to a tax increase. The quick adjustments in reported estates, combined with a null effect on labor supply behavior among both donors and heirs, suggest the responses are likely driven by tax avoidance.
The observed asymmetry can be explained by tax avoidance with sunk costs: taxpayers increase avoidance during a tax increase but are less responsive to a tax cut due to previously incurred avoidance costs. We set up a tax avoidance model and derive sufficient statistics, characterized by our estimated elasticities, to assess the welfare impact of tax reforms. Our analysis shows that using the tax cut elasticity, which is attenuated due to sunk costs, would underestimate the welfare cost and overestimate the net welfare effect of a tax increase by 61%.